A loan is often indispensable to meet needs that you cannot afford to pay back at a specific time. However, if you are not careful, you will affect your personal finances. To prevent this from happening, here are some things to consider before you take out a loan.
1. Your debt payment should not exceed 20% of your income
Before you think about how much you’re going to borrow, you need to know your ability to pay. That is to say, how much you can afford to pay out of your fortnight, without compromising your essential expenses for food, water, gas, electricity, tuition, transportation, in short, all the money you need to survive in a month.
Personal finance experts recommend that you spend about 20% of your monthly income on all your debts.
For example, if you earn $700 a month, you should only spend $140 in debt (personal loan, mortgage, credit card, payment of your mother’s loan, etc.).
However, the best thing to do is to budget all your monthly expenses, maybe the percentage you can afford to pay off can be less or a little more.
To make it easier to budget and know exactly how much you have left over after subtracting your essential expenses, use this calculator.
2. A credit according to your needs can be cheaper
Specialized loans are usually cheaper, as financial institutions have tangible support. For example, a mortgage loan is much cheaper than a personal loan, because the bank has the house itself as a guarantee, and the same thing happens in the case of an automobile loan.
So, identify what your need is and, if there is a suitable credit for you, this way you will not pay unnecessary interest.
3. The CAT will tell you the cost of your credit, check it out!
The first thing you should look at when applying for a loan is the CAT (Total Annual Cost). This indicator looks at the interest rate and fees for the loan. In other words, it tells you how much the credit is going to cost per year.
For example, some credit cards are very expensive because they charge fees such as annuity and high interest rates. The CAT for a mortgage loan includes management fees and some charges such as life insurance or homeowner’s insurance, if you don’t have them. The CAT will go according to the characteristics of each loan.
Now, a low interest rate is the most important thing to obtain a cheap loan, but it will be of little use, if you have to pay thousands of other fees. Therefore, it is very important that you review the CAT before signing a contract. Furthermore, knowing this indicator will be useful to compare different options.
4. Compare costs on fintech platforms
As we said before, it is better to look for a credit that fits you, and a good option are the fintech platforms, that is, financial institutions that work online, lowering the costs of maintaining a physical branch, consequently, their interest rates are more competitive and, also, they are accessible if you do not have a credit history or are in the credit bureau.
These online financial institutions also specialize in personal, mortgage and business loans. Therefore, try to compare at least three options, either from the fintech or traditional sector.
5. Gather the necessary documentation
For certain credits it will be necessary to provide documentation proving the expense you will make or the one you already made, such as the car bill, purchase of material to improve or repair your house, etc.
Especially, of your income, to know if you can really pay. If you are an entrepreneur or freelancer, collect income bills, even your annual statement can be a great tool to prove income.